Credit Union Industry Reacts to Failure of Big Texas CU

Crippled by mounting commercial loan losses, the $1.6 billion Texans Credit Union was placed in conservatorship on April 15 by the NCUA.

"The decision to conserve a credit union enables the institution to continue regular operations with expert management in place correcting previous service and operational weaknesses," the NCUA wrote in a statement.

The regulator confirmed that Texans CU President/CEO Michael Sauer was removed along with the cooperative’s entire board of directors. Kay Woods, known within the industry for aiding other troubled credit unions in the past, was brought in to guide Texans. Woods most recently worked with Arrowhead Central Credit Union in San Bernardino, Calif., after it was placed in conservatorship in 2010.

Texans has been under scrutiny for the past few years mostly due to a collapse within its business lending portfolio. According to NCUA Call Report data, the Richardson, Texas-based credit union suffered a net income loss of $20.7 million through its wholly owned commercial lending CUSO, Credit Union Liquidity Services Inc., as of December 2010. More than $15 million in business loans were charged off last year. Another $22 million in participation loans met the same fate. At the end of 2010, the NCUA deemed the credit union "significantly undercapitalized" with a net worth ratio of 2.75%. Texans serves 133,000 members.

The NCUA said while it has yet to make any decision about Texans’ future, a merger is one action the agency has the authority to pursue. Other options include maintaining control until the credit union’s financial condition improves and then returning control to the members to elect a new board, said Todd Harper, director of the NCUA Office of Public and Congressional Affairs.

Harper said seeking another financial institution to partner with the credit union through either a merger or a purchase and assumption agreement is another option. Liquidating the credit union and dispersing assets to the members would be another consideration.

"Members can continue to conduct business as usual at Texans Credit Union. Moreover, in its role as conservator, NCUA is primarily focused on improving the financial condition of the credit union in order to return control of the credit union to the members to elect a new board," Harper said in a statement. "In other words, NCUA is working to keep the credit union open not only today but also in the long term."

Amid speculation of potential merger partners, the $6.1 billion Security Service Federal Credit Union in San Antonio said it has not had any discussions about a Texans merger. A source familiar with Texans told Credit Union Times that Texans had received a merger letter of intent. The source did not know what credit union sent the letter but speculated it might be Security Service.

"We’ve just completed three mergers over the last nine months," said John Worthington, senior vice president of Security Service in San Antonio. "The bottom line is we’re not engaged in any discussions at this point," Worthington said. "If someone wants to talk to us, we would certainly take a look at it."

Besides its lending troubles, Texans had been embroiled in several lawsuits over the years from former credit union executives, mostly with claims of wrongful termination. The credit union has also been in court for suits involving several failed commercial real estate developments.

The Texas Credit Union League said credit unions in the Lone Star state remain healthy despite Texans’ condition.

"The conservatorship of Texans CU is not a cause for concern, as federal law and NCUA practices are in place to protect members," said TCUL CEO Dick Ensweiler. He added that members of the Richardson-based credit union "can rest assured that their funds are secure."

As bank lobbyists continue their attempts to stop credit unions from having a higher member business lending cap, will the conservatorship of Texans Credit Union give legislators cause for pause?

CUNA said it would not be surprised if bankers point to the $1.6 billion Texans CU to build its case.

"Surely, the bankers will attempt to exploit this development as a reason for rejecting our efforts to expand business lending authority," said Pat Keefe, CUNA vice president of communications. "But there are two things working against their argument. Their own problems with failing banks is much more severe, and credit unions have an overall better record of business lending."

Keefe noted that on the same day that the NCUA announced Texans’ conservatorship, April 15, the FDIC announced the closing of another six banks with total assets of about $4.5 billion. The estimated losses for these six banks is $520 million, according to the FDIC. This brings total bank failures for the year to 34, with total assets of about $14 billion, as of April 15. Keefe said two of the six from April 15 are in the top five for the year in terms of asset size. By comparison, as of April 18, there were seven credit union failures, including conservatorships and liquidations, Keefe said, adding that the NCUA does not provide estimated losses as the FDIC does.

Providing even more side-by-side stats, Keefe said credit union business lending outperforms bank business lending. For all of 2010, CU MBL net charge-offs were 0.66%.

"That’s a shade over a third of the comparable bank number of 1.75% for 2010," Keefe pointed out. "Texans is a rare exception to the typical result at credit unions."

In March, Sen. Mark Udall (D-Colo.) reintroduced a measure to raise the MBL cap from 12.25% of assets to 27.5%. To be eligible to increased its cap, a credit union would have to be well-capitalized as defined by the NCUA, have at least five years of MBL experience and be at or above 80% of the current cap among under conditions. Reps. Ed Royce (R- Calif.) and Carolyn McCarthy (D-N.Y.) introduced companion legislation in the house earlier this month.

Some both inside and outside the credit union industry wonder if the Texans conservatorship may demonstrate that credit unions should not be involved in business lending. Dick Ensweiler, president/CEO of the Texas Credit Union League, has said conservatorships in the Lone Star State are very rare and overall, credit unions there are well-capitalized and healthy.

Bill Beardsley, president of Michigan Business Connection, a CUSO that manages more than $200 million in business loans, said Texans is the exception, not the rule.

"It might demonstrate that Texans should not have been involved in business lending or at least to the extent they were," Beardsley said. "I think that the NCUA will evaluate the troubles at Texans to determine if systemic failures or management failures were at the root of the problem."

Beardsley compared the conservatorship to the recent spate of scrutiny toward airport controllers cited for falling asleep on the job.

"Would the FAA restrict nighttime flights just because one pilot fell asleep?" he asked.

When Texans launched Texans Commercial Capital LLC in May 2004, the CUSO quickly took off, generating more than 200 loans totaling $214 million during its first year. Deals financed in the $10 million to $30 million range became the norm. In 2005, half of the $12.7 million profit earned by Texans came directly from the CUSO. Another 40% came from commercial loans purchased by the credit union from Texans Commercial.

Some of the commercial lending CUSO’s troubles may be traced back to early 2005 when three former executives with Texans Commercial filed a lawsuit with claims that included fraud and breach of contract after they were terminated.

A Dallas jury eventually ruled in favor of the plaintiffs, who were each entitled to receive $1 million.

In late 2007, Texans sold its majority interest in Texans Commercial as a means to pursue capital. Texans retained a minority interest in the company and retained 100% ownership of the preexisting loans and the majority stake was sold to a real estate professional. In late 2007 the CUSO’s delinquency rate declined sharply as a result of its commercial and real estate loans. The CUSO eventually pulled back the reins on member business loans. It was later renamed Credit Union Liquidity Services LLC and over the past few years has been in and out of court involving failed commercial real estate transactions.

Keith Leggett, vice president and senior economist at the American Bankers Association, acknowledged, "it is sad to see any financial institution fail." Still, there were early signs that may have been ignored.

"While bad management decisions resulted in the conservatorship of the Texans Credit Union, both NCUA and the Texas Credit Union Department were negligent in their oversight of Texans Credit Union," Leggett said.

He pointed to 2005 letters from the ABA and the Texas Bankers Association questioning the NCUA about the "rapid expansion in Texans CU’s business loan portfolio and whether Texans exceeded its business loan limit." The failure of large commercial real estate loans, some outside of its lending market, also helped contribute to the Texans conservatorship, he added.

"Texans CU grew its business lending operation too rapidly. Whenever an institution grows a business line very rapidly, especially a riskier activity such as commercial lending, there is an increased probability that internal controls will fail," Leggett said.